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November 06, 2017 at 05:50 AM
The investment industry is usually quiet during the summer. Trading activity slows, the conference schedule is reasonably light, and summer vacations cut into the frequency and intensity of meetings. Labor Day marks the unofficial end of summer, starting a frenzy of activity that resembles a cruise ship buffet.
The relatively short time between Labor Day and Thanksgiving is a blur of activity, as investment industry participants attempt to accomplish as much as possible before transitioning into year-end holiday mode. This year’s fall season included several conferences, a dizzying number of investment manager meetings, and the award of a Nobel Prize in Economic Science to behavioral science economist Richard H. Thaler. Taking a break from the investment “buffet,” I’ll share my top 10 observations from the fall frenzy.
1. The U.S. stock market may be less expensive than commonly thought.
The most commonly used valuation metrics, the price-to-earnings and cyclically adjusted price-to-earnings (CAPE) ratios, are at disturbingly high levels. Contrary views point to the currently low levels of inflation to justify valuations that aren’t cheap, but haven’t reached outrageous levels.
2. The next bear market may be different than leverage or asset-induced bear markets of recent vintage.
There are minimal signs of the types of asset bubbles or leverage imbalances that caused recessions in 1990, 2000 or 2008. Although asset bubbles or leverage-induced recessions are what many investors fear, the next recession is more likely to be caused by an overheating economy or by central bank tightening to rein in inflation. Fed policy remains the most likely catalyst for a recession and bear market.
3. Value stocks will rise again.
Value investors have had a rough time in recent years, as growth stocks have had a strong run of outperformance. Some investors speculate that the value “premium” has eroded because of the flood of money into “smart beta” investment strategies. Dimensional Fund Advisors provided a compelling challenge to the “smart beta killed the value premium” hypothesis at a recent conference, demonstrating that smart beta funds collectively resemble the market in composition and in performance. Contrary to conventional thinking, smart beta funds don’t meaningfully tilt toward the value style. Dimensional’s speakers also made a strong case supporting the long-term prognosis for value stocks to return to the long-term tendency to outperform growth stocks.
4. Passive may not replace active in bonds.
The most significant difference between equity and fixed income indexes is that equity indexes can be thought of as rewarding “success.” Companies with the highest stock market value have the greatest weight in market-capitalization-weighted indexes. Fixed income indexes, in contrast, are weighted to favor issuers with the most debt outstanding, a methodology that in many cases isn’t an indication of financial success or market popularity. Given the shortcomings of fixed income indexes, active approaches to bond management may offer superior return and risk management attributes to investors.
5. “We will never again have a middle class built on routine work.”
This blunt opinion was shared in a forum session about investing in a post-global world. Technology represents a threat to routine work throughout the world, disrupting economic models for many countries. Although trade and immigration are often blamed for the loss of American manufacturing jobs, the losses have much more to do with productivity gains than with unfair trade or immigrants. In essence, robots have “stolen” far more jobs than Chinese or Mexican workers.
